AT&T’s Risky Bet on Time Warner Comes as Its Legacy Businesses Are Withering

AT&T has posted substantial revenue growth for the last couple of years, which might give the impression that its Time Warner acquisition is coming from a position of strength. In fact, AT&T has been shrinking, and the big mergers are intended to rectify that situation.

AT&T has made several significant acquisitions in the past three years, including DirecTV and two wireless operators, Nextel and Iusacell, in Mexico. These transactions buoyed AT&T’s revenue growth — 5% in the third quarter this year, and more than 20% for each of the prior three quarters.

However, if you strip out the acquisitions’ revenue contributions over the preceding year, AT&T’s underlying organic growth disappears, falling into single-digit losses.

Note: Because results for DirecTV are not broken out by AT&T (which reports financials for its Mexican wireless assets separately), calculating the impact of the acquisition on revenue growth requires factoring in DirecTV’s revenue before the merger. sources: AT&T, Directv, jackdaw research Analysis

The reason is simple: Most of the businesses AT&T is in today are stagnant or declining. The segment that serves business customers has declined for seven consecutive quarters, as legacy services are replaced by newer ones at lower prices. AT&T’s mobile business model is going through a transition, which is depressing revenue. The wireless industry as a whole has been challenged due to a saturated U.S. marketplace.

The DirecTV and Mexican wireless assets were attempts to solve these problems. As AT&T saw increasingly challenging conditions in its domestic TV and wireless businesses, these acquisitions represented a way to tap into growth elsewhere, and boost existing areas. AT&T hopes that DirecTV, in particular, will be a stimulus to not only video subscriptions but the wireless offerings with which they’re bundled.

The TW deal can be seen in the same light — an attempt to drive growth when AT&T’s organic efforts are treading water. The irony is that Time Warner’s business has just stopped growing: In the 12 months to June 2016, year-on-year growth was negative for the first time in recent history; it also shrank in the year to September 2016.

Note: Because results for DirecTV are not broken out by AT&T (which reports financials for its Mexican wireless assets separately), calculating the impact of the acquisition on revenue growth requires factoring in DirecTV’s revenue before the merger. sources: AT&T, Directv, jackdaw research Analysis

But the broader picture is that AT&T hopes the whole will be greater than the sum of the parts, and that Time Warner will not just add a chunk of revenue but drive faster growth to existing businesses. These efforts will focus on creating content exclusives, combined with special treatment for data charges on the AT&T network.

Of course, this growth doesn’t come cheaply. Though the TW transaction will be AT&T’s largest by far, DirecTV cost $48.5 billion, and the three wireless businesses AT&T acquired between 2013 and 2015 cost a combined $5.6 billion. Assuming the TW acquisition goes through, AT&T will have spent a total of $140 billion on these purchases over the past five years or so. That’s a huge bet on future growth that may not materialize.

Jan Dawson is the founder and chief analyst at Jackdaw Research, an advisory firm for the consumer technology market.